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The Economics of the Pharmaceutical Industry

Today, the healthcare & pharmaceutical industry is the largest in the world and is estimated to be around thrice as large as banking. Pharma companies are already spending heavily on research and development, with approximately $140bn being used annually for these particular projects.

Typically, before medical drugs are released into the market for consumption, they undergo evaluation to determine their safety, efficacy, production quality and marketing messages which must adhere to the set standards. These factors may have an impact on their pricing, availability and utilization by the general public.

Nevertheless, the pharmaceutical sector is still building a better world for all people by developing new-generation drugs and cures for terminal diseases such as cancer, heart attack, alzheimers and arthritis among others. The industry is focused on determining the biological causes of these ailments, so as to not only improve the living standards of patients but also their productivity and economic potential.

Fiscal structure of the drugs sector.

It’s commonly accepted in the industry that the characteristics of consumer drugs can only be determined from observational studies, and accumulated experience of users in carefully designed clinical tests. This model has impacted greatly on regulation of market access, as well as promotion of drugs due to uncertainty about their safety and efficacy.

Moreover, following recent changes that now allows the FDA to review and impose new requirements on pharmaceuticals. There’s been an increase in the cost of research and development (R&D), which has led to delay of launching new drugs and a sharp focus towards larger firms over the smaller ones.

Even so, biotechnology revolution is steadily transforming the nature of discovering new medicine, and the industry structure as a whole. Drugs are increasingly being developed by small but technologically advanced firms, which then out-license their inventions to the larger more experienced companies for consequent drug improvement, regulatory assessment and commercialization.

Although the bigger firms have grown in market capital due to mergers, their overall performance still lags behind that of smaller companies which they heavily rely on for new products. This explains why every year the identity of 1000s of firms changes, since most startup companies merge or are acquired by the already established ones.

Similarly, studies show that medicinal-products manufactured in an alliance have a greater chance of success in the complex late-phase development trials, especially if the license is owned by a larger firm. Therefore, although the big firms enjoy better economies-of-scale and experience for complex drug trials, the smaller ones can tap into this resource through licensing agreements.

Such partnerships define the allocation of responsibilities between big and small pharmaceutical companies. Typically, the latter receives cash or equity upfront for their contribution, including royalty payments, and may also be allowed to participate in late-stage development of the drug and marketing awareness, so as to gain relevant experience. On the other hand, the bigger firm benefits from rights to create and promote the new drug, while also retaining most of the profit revenue depending on specifics of the partnership deal.

An efficient deal between pharmaceuticals usually allocates responsibilities between the smaller and larger company, thus influencing policy making and incentives that each partner receives.

Socioeconomic impact of pharmaceuticals.

This sector is often considered to be more productive than others due to the long value-chain it creates. Even though there’s a fairly low consumption of resources, it can substantially contribute to any country’s economic growth.

The high levels of productivity are as a direct result of high capitalization, intensive innovation, greater standards of production efficiency and a workforce with above-average qualifications. These are among the pre-requisites that pharmaceuticals need to remain competitive in the industry, plus they also contribute to a higher level of pay for stakeholders.

Generally, for every dollar of value added as a result of research & production activities by pharma companies, other sectors also benefit from the chain and have created 1000s of jobs from these operations. In fact, studies show that for every job in the drugs industry there are 3 additional full-time equivalents in firms that benefit indirectly from the manufacturing/ research activities of pharmas.

Moreover, since most individuals who work in the sector are highly skilled, they tend to have greater levels of pay than others and some of this income usually flows back into the local economy in form of consumer spending, meaning those in the trade and industry business will also benefit.

Furthermore, when a pharmaceutical firm opens a new place or expands an existing site, this may lead to numerous orders from local firms in other sectors that may be involved in tasks such as development & preparatory work, construction of new research buildings and installation/fitting of production facilities or laboratories. The secondary companies that benefit from these spill-over effects provide further multiplier benefits in the economy, as a result of sourcing their goods and services from other stakeholders in the market.

Likewise, most pharmas work with on-site contractors for ongoing tasks such as equipment operation & maintenance, safety, cleaning and facilitating surrounding work, this helps to create more jobs for outside companies involved in these duties. For instance, they may need an electrician to provide lighting in the research lab, and a plumber to fit the company’s waste disposal system.

Pricing of drugs.

While the increased entry of new companies in the pharmaceutical-biotechnology industry shows that the sector is structurally competitive, market power still derives to a great extent from patents of large companies, which use their high pricing profits to recover their research and development costs.

Even though patents prevent other generically equivalent prescription drugs from being manufactured for the duration of the patent, they still don’t prevent the entry of other therapeutic products that may be competitors. Therefore, industry monopoly by big pharmas and their patents doesn’t provide a good rationale for regulating the price of drugs. Pricing is often determined by third party factors such as market supply and demand, health insurance policies and so on.

In conclusion, the pharmaceutical industry is not only involved in creating new drugs to combat diseases, but also contributes to the economy by providing job opportunity to those who are in the industry’s value chain.